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Appendix A: Government Borrowing

The major source of government revenue is taxation. Another source is government borrowing. Government borrowing from the banking system is really a form of inflation: it creates new money-substitutes that go first to the government and then diffuse, with each step of spending, into the community. Inflation is discussed in the text above. This is a process entirely different from borrowing from the public, which is not inflationary, for the latter transfers saved funds from private to governmental hands rather than creates new funds. Its economic effect is to divert savings from the channels most desired by the consumers and to shift them to the uses desired by government officials. Hence, from the point of view of the consumers, borrowing from the public wastes savings. The consequences of this waste are a lowering of the capital structure of the society and a lowering of the general standard of living in the present and the future. Diversion and waste of savings from investment causes interest rates to be higher than they otherwise would, since now private uses must compete with government demands. Public borrowing strikes at individual savings more effectively even than taxation, for it specifically lures away savings rather than taxing income in general.

It might be objected that lending to the government is voluntary and is therefore equivalent to any other voluntary contribution to the government; the “diversion” of funds is something desired by the consumers and hence by society.135 Yet the process is “voluntary” only in a one-sided way. For we must not forget that the government enters the time market as a bearer of coercion and as a guarantor that it will use this coercion to obtain funds for repayment. The government is armed by coercion with a crucial power denied to all other people on the market; it is always assured of funds, whether by taxation or by inflation. The government will therefore be able to divert considerable funds from savers, and at an interest rate lower than any paid elsewhere. For the risk component in the interest rate paid by the government will be lower than that paid by any other borrowers.136

Lending to government, therefore, may be voluntary, but the process is hardly voluntary when considered as a whole. It is rather a voluntary participation in future confiscation to be committed by the government. In fact, lending to government twice involves diversion of private funds to the government: once when the loan is made, and private savings are diverted to government spending; and again when the government taxes or inflates (or borrows again) to obtain the money to repay the loan. Then, once more, a coerced diversion takes place from private producers to the government, the proceeds of which, after payment of the bureaucracy for handling services, accrues to the government bondholders. The latter have thus become a part of the State apparatus and are engaging in a “relation of State” with the tax-paying producers.137

The ingenious slogan that the public debt does not matter because “we owe it to ourselves” is clearly absurd. The crucial question is: Who is the “we” and who are the “ourselves”? Analysis of the world must be individualistic and not holistic. Certain people owe money to certain other people, and it is precisely this fact that makes the borrowing as well as the taxing process important. For we might just as well say that taxes are unimportant for the same reason.138

Many “right-wing” opponents of public borrowing, on the other hand, have greatly exaggerated the dangers of the public debt and have raised persistent alarms about imminent “bankruptcy.” It is obvious that the government cannot become “insolvent” like private individuals—for it can always obtain money by coercion, while private citizens cannot. Further, the periodic agitation that the government “reduce the public debt” generally forgets that—short of outright repudiation—the debt can be reduced only by increasing, at least for a time, the tax and/or inflation in society. Social utility can therefore not be enhanced by debt-reduction, except by the method of repudiation—the one way that the public debt can be lowered without a concomitant increase in fiscal coercion. Repudiation would also have the further merit (from the standpoint of the free market) of casting a pall on all future government credit, so that the government could no longer so easily divert savings to government use. It is therefore one of the most curious and inconsistent features of the history of politico-economic thought that it is precisely the “right-wingers,” the presumed champions of the free market, who attack repudiation most strongly and who insist on as swift a payment of the public debt as possible.139

135. A recent objection of this sort appears in James M. Buchanan, Public Principles of Public Debt (Homewood, Ill.: Richard D. Irwin, 1958), especially pp. 104–05.

136. It is incorrect, however, to say that government loans are “riskless” and therefore that the interest yield on government bonds may be taken to be the pure interest rate. Governments may always repudiate their obligations if they wish, or they may be overturned and their successors may refuse to honor the I.O.U.'s.

137. Hence, despite Buchanan's criticism, the classical economists such as Mill were right: the public debt is a double burden on the free market; in the present, because resources are withdrawn from private to unproductive governmental employment; and in the future, when private citizens are taxed to pay the debt. Indeed, for Buchanan to be right, and the public debt to be no burden, two extreme conditions would have to be met: (1) the bondholder would have to tear up his bond, so that the loan would be a genuinely voluntary contribution to the government; and (2) the government would have to be a totally voluntary institution, subsisting on voluntary payments alone, not just for this particular debt, but for all in transactions with the rest of society. Cf. Buchanan, Public Principles of Public Debt.

138. In the same way, we would have to assert that the Jews killed by the Nazis during World War II really committed suicide: “They did it to themselves.”

139. For the rare exception of a libertarian who recognizes the merit of repudiation from a free-market point of view, see Frank Chodorov, “Don't Buy Bonds,” analysis, Vol. I V, No. 9 (July, 1948), pp. 1–2.